Gränges' (STO:GRNG) Returns Have Hit A Wall

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. That's why when we briefly looked at Gränges' (STO:GRNG) ROCE trend, we were pretty happy with what we saw.

Understanding Return On Capital Employed (ROCE)

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Gränges, this is the formula:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.10 = kr1.0b ÷ (kr15b - kr5.3b) (Based on the trailing twelve months to September 2021).

So, Gränges has an ROCE of 10%. In absolute terms, that's a pretty standard return but compared to the Metals and Mining industry average it falls behind.

See our latest analysis for Gränges

In the above chart we have measured Gränges' prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Gränges.

So How Is Gränges' ROCE Trending?

While the returns on capital are good, they haven't moved much. The company has consistently earned 10% for the last five years, and the capital employed within the business has risen 67% in that time. Since 10% is a moderate ROCE though, it's good to see a business can continue to reinvest at these decent rates of return. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 34% of total assets, this reported ROCE would probably be less than10% because total capital employed would be higher.The 10% ROCE could be even lower if current liabilities weren't 34% of total assets, because the the formula would show a larger base of total capital employed. With that in mind, just be wary if this ratio increases in the future, because if it gets particularly high, this brings with it some new elements of risk.

What We Can Learn From Gränges' ROCE

In the end, Gränges has proven its ability to adequately reinvest capital at good rates of return. Therefore it's no surprise that shareholders have earned a respectable 42% return if they held over the last five years. So while investors seem to be recognizing these promising trends, we still believe the stock deserves further research.

If you want to know some of the risks facing Gränges we've found 3 warning signs (1 makes us a bit uncomfortable!) that you should be aware of before investing here.

While Gränges isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.